Suggestions For Microsoft

| About: Microsoft Corporation (MSFT)


Christopher Mims of the Wall Street Journal states that "the drain of talent from Microsoft to Google and elsewhere has been brutal".

This is not inconsistent with the claim that Microsoft has not used its retained earnings well in spite of the consistently high return on equity that it has earned.

Mr. Mims suggest that Satya Nadella, Microsoft's CEO, must be brave and act aggressively to reverse these trends.

Wall Street Journal tech columnist Christopher Mims has some suggestions for Microsoft (NASDAQ:MSFT) chief Satya Nadella. The suggestions are worth "kicking around."

The five suggestions of Mr. Mims are as follows.

First-Make windows free (but keep charging for everything else).

Second-forget the consumer business.

Third-Stop alienating your partners.

Fourth-Your future is in the cloud-embrace it.

Fifth-Act before problems become apparent to shareholders.

The basic assumption that Mr. Mims works from is that "Microsoft remains the PC company in an anything-but-PC world."

This point is just reinforced by the new report, produced annually, by Mary Meeker, a partner of the venture capital firm Kieiner Perkins Caufield & Byers. Ms. Meeker reports that "mobile data consumption is up 81 percent as the world turns more to tablets and smartphones..." She continues, "Globally, mobile now accounts for 25 percent of web usage, up from 14 percent a year ago."

Beneath the first suggestion by Mr. Mims lies the belief that Microsoft is living in its own fantasy… it is living off of its "legacy." Bill Gates and Microsoft created a platform that came to dominate the world of the PC. It is still living off of that platform, but like many legacies, the current generation can get all wrapped up in "the legacy" and forget the present… let alone the future.

As Mr. Mims reports, Windows produces about a quarter of the revenue generated by Microsoft. The profit margin from Windows is 28 percent. But, these results are the fruit of the creation of an "information good" that has gained dominance in its market… even though the market is changing.

This "information good" has, by itself, allowed Microsoft to earn a return on equity throughout the 2000s and up to the present time, well in excess of 15 percent.

Yet, during the same time, the stock price of Microsoft basically remained within a narrow range. My interpretation of this is that although the market appreciated the returns that Microsoft was posting, investors did not see the management of Microsoft doing much of anything with all the retained earnings it was generating. That is, investors continued to ask Microsoft…"what have you done for me recently." The answer these investors built into the Microsoft stock price was "nothing."

Mr. Mims suggests that Microsoft can gain by basically, not charging customers for Windows. In essence, the "marginal cost" of the Windows OS is zero… so give it away.

Well, Mr. Mims argues, maybe don't make Windows "completely free." He suggests that Microsoft "Give it away to consumers and device manufacturers, but sell a pro version to corporations. Most important: Keep charging for and evolving Office, and make it your central platform upon which people can build."

In essence, Microsoft has not been using the large amount of retained earnings being generated by it "platform" system… so, it should give away most of it. This excess has just caused Microsoft to become complacent… so, do away with it!

Moving from this suggestion into his next suggestion, Mr. Mims seems to be saying that the consumer end of the business for Microsoft is not profitable. Here, in the customer product space, competition is sufficiency fierce so that marginal costs are hardly covered if at all.

Although Mr. Mims does not want to criticize Mr. Ballmer, Nadella's predecessor, he states right out that Microsoft "should probably sell Nokia." But, this was Mr. Ballmer's swan song… the legacy he left Mr. Nadella to deal with. Also, he argues that Microsoft should get rid of Xbox because "it's a distraction."

In other words… Microsoft should narrow its focus to businesses.

The third suggestion of Mr. Mims: Focus on Windows and don't do anything to make your allies angry by promoting other peripheral items that do harm to your friends. "Microsoft doesn't exist without Windows, and Windows doesn't exist without your partners." In other words, Microsoft has looked at itself as a gift to the world and, as a consequence, can do just about anything it wants. Mr. Mims is saying that Microsoft needs to be somewhat less arrogant.

Fourth, Mr. Mims suggests that Microsoft needs to focus on the future of computing… the cloud. Mr. Mims cites Jeff Bezos of Amazon (NASDAQ:AMZN) and Larry Page of Google (NASDAQ:GOOG) (NASDAQ:GOOGL) as saying that "cloud services will someday be bigger than all their other sources of revenue." Microsoft is a player here and could be a much bigger player. This is the future… go for it!

Mr. Mims also cites the fact that Mr. Nadella has headed up the cloud division and therefore is the perfect leader to move Microsoft further into this space. Mims just argues for Mr. Nadella to "be brave" and move much more aggressively into this territory.

And, this spills over into the fifth suggestion. Mr. Mims states that "the drain of talent from Microsoft to Google and elsewhere has been brutal."

This to me is as damning as the argument that the investment community has not invested in Microsoft stock because the management of Microsoft was not making good use of its retained earnings. Just as the investment community has showed its lack of interest in Microsoft by taking its money elsewhere, here we see that Microsoft cannot keep its "best and brightest" because all the excitement is taking place elsewhere.

If Mr. Nadella is to get Microsoft going and growing, he is going to have to do something to generate the focus and excitement of the company in a way that will attract and retain top talent. Nadella must make Microsoft look and feel like it is the place to be.

And, if he can do this, it is my belief that he will be able to convince the investment community that Microsoft is the place where it will want to place its money.

Disclosure: I am long MSFT. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.